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May 29, 2017

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European Central Bank likely to hold fire despite low risks

BERLIN--The European Central Bank (ECB) is unlikely to take new policy action at its monthly meeting on Thursday, despite a lingering threat of eurozone deflation and geopolitical risks, analysts said.

For now, the ECB is in "wait-and-see" mode to assess the impact of the unprecedented stimulus measures it announced in June, including taking one of its key interest rates into negative territory, they said.

Although the eurozone came out of recession last year and unemployment has fallen slowly, the Ukraine crisis and Western sanctions against Russia present a wild card of uncertainty.

But, despite worries over the East-West standoff, and very low eurozone inflation data for July, central bank-watchers did not expect the ECB and its chief Mario Draghi to announce new measures on Thursday.

"After the bold package announced in June, the ECB is now in a wait-and-see mode," wrote Marco Valli of UniCredit Economics, predicting a probably "fairly uneventful" meeting.

"The only meaningful change in rhetoric is likely to flag closer ECB monitoring of the downside risks from geopolitical tensions, as tougher sanctions against Russia start directly affecting some, so far limited, sectors of the euro area real economy, while uncertainty intensifies," he said.

For months, the other major worry has been the possibility of a plunge into deflation, or falling prices — a dangerous twist which deters businesses and consumers from spending in the belief they can wait and buy more cheaply later.

If that happens, demand suffers and companies put off investment, hurting employment and setting off a vicious circle that can choke economic growth.

It is notoriously difficult for central banks to reverse deflation once the spiral has taken hold.

Deflation Risk

Data last Thursday showed that eurozone inflation in July dropped to 0.4 percent.

That was its lowest level since late 2009, in the aftermath of the global financial crisis, and far off the ECB's target of just below 2 percent.

Howard Archer of IHS Global Insight called the inflation data "a blow for the ECB."

A silver lining was that the dip was mainly due to a year-on-year fall in volatile energy prices, leaving core consumer price inflation stable at 0.8 percent.

Archer said there was "a very real risk" that inflation could drop further, although he added that "we still expect the eurozone to avoid overall deflation."

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